The author has been described by News Ltd as an "iconoclast", "Svengali", a pollie's "economist muse", and "pungently accurate". Fairfax says he is a "Renaissance man" and "one of Australia’s most respected analysts." Stephen Koukoulas concludes that he is "85% right", and "would make a great Opposition leader." Terry McCrann claims the author thinks "‘nuance’ is a trendy village in the south of France", but can be "scintillating" when he thinks "clearly". The ACTU reckons he’s "an enigma wrapped in a Bloomberg terminal, wrapped in some apparently well-honed abs."

Monday, November 1, 2010

Brian Redican also argues that the RBA did not stuff up in 2008...

Macquarie's Brian Redican has produced an excellent little note on the RBA's experience in 2007-08. And he makes some rarely highlighted points (emphasis added):

"[R]ather than viewing 2007-08 as a failure, the RBA might actually argue that it represents a successful containment of inflationary pressures.
To understand why, first note that we didn't find out that inflation had risen above 3% until the end of January 2008 when the 2007Q4 inflation data were released. While inflation subsequently hit 4.5% later in 2008, the RBA says that policy is always directed at moving inflation towards 2½% over the policy horizon, which is generally thought to be around 2 years. Well, by March 2010, inflation had fallen back to 3%, and has now declined to 2½%. So on that basis, the RBA has done exactly what it always said it would do.

So, yes, average inflation over the last few years has been a bit higher than the RBA would have liked. But again, as the RBA Governor argues:

"…the correct policy is to always aim at the target, regardless of where you are today, and regardless of what has happened in the past. Bygones are, and should be, bygones."

Assistant Governor Guy Debelle has been even more explicit about this:

"…the intent is that over the course of the business cycle, the bulk of the distribution of year-ended inflation outcomes should lie between 2 and 3 per cent, not that the annualised average inflation rate from the start of the business cycle to the end should necessarily lie between 2 and 3."

Thus, anyone gauging the success of the RBA’s inflation targeting policy by referring to average inflation is not using the same measuring stick as the RBA itself.
It’s worth noting, however, that over the past 5, 4 and 3 years headline inflation has averaged 3%, 2.7% and 3%, substantially less than underlying inflation. The RBA’s target is framed in terms of the headline inflation rate. And so the fact that there has been a material difference between the underlying and headline measures over an extended period of time does raise questions. Namely, should we be placing so much attention on the statistical measures of inflation, particularly when the difference between 0.6% or 0.8% quarterly inflation can apparently be the difference between no rationale to change policy and a clear-cut case for tightening?

In discussing how the RBA uses underlying inflation, the RBA Governor has said:

"…we employ analytical devices to help us detect what the ongoing trend in inflation is likely to be, and this is where the underlying measures are useful. They are not, themselves, the target variable. But a policy that targets future CPI inflation, using underlying inflation as an analytical tool and/or as a predictor of the headline CPI, would probably look very similar to one that was targeting underlying inflation per se. So, in this sense, if one is trying to assess what economists would call the Bank’s ‘reaction function’ using particular price series, underlying measures would probably be more helpful than the headline rate."

But all this is predicated on the assumption that following these measures of underlying inflation will take you to the same destination as the headline inflation data. Over the last 5 years, they haven’t. And unfortunately this has added to the impression that the RBA has missed its target. Maybe this prolonged period of overstatement means that over the next 3 to 5 years underlying inflation will be consistently below the headline rate, but we suspect not. As we’ve argued in the past, a mechanical reliance on the statistical measures of inflation is flawed."

Most economists were expecting a very weak core inflation result for the September quarter. Instead, the weighted median printed at 0.8%, th...

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I first started blogging on ideas relating to economics, finance, investments and housing following an invitation from Business Spectator. Please note that I may have an economic interest in any of the items discussed here. You should also be aware that these are my own personal views and do not represent the opinions of any other individual or institution. This material is not intended to provide, and should not be relied upon for, investment advice or recommendations. Readers are urged to seek professional advice before making any investments. Call 1800 YBR YBR to find a financial planner near you.

About Me

While this is a personal blog, professionally Chris is a director and strategic advisor to a number of funds management and financial services companies. In 2009 The Australian newspaper selected Chris as one of Australia’s top 10 “Emerging Leaders” in its economics category. In 2007 Chris was selected by The Bulletin magazine as one of Australia's "10 Smartest CEOs" and by BRW Magazine as one of "Australia's Top 10 Innovators". He previously worked for Goldman Sachs and the RBA. In 2008-09, the Australian Government invested $20 billion in a radical policy proposal developed by Chris to provide liquidity to Australia’s securitisation market. In February 2009, Chris was invited by the Rockefeller and MacArthur Foundations to present innovative policy solutions at the private Transforming America’s Housing Policy summit for Obama Administration officials. Chris served as a Director of The Menzies Research Centre from 2003-07. He has published widely on matters relating to financial economics, and is a regular TV and media commentator. He is a Research Affiliate with the Centre for Ideas and The Economy at Melbourne Uni.